Israeli forces fired tank shells into a peaceful Palestinian protest during the ongoing assault on Rafah refugee camp yesterday, killing at least 10 people - mostly children - and critically wounding many others.

The army described the incident as "very grave", claimed it had only fired "warning shots" and said there was no intention to harm civilians. But it attempted to shift responsibility for the carnage to the several thousand demonstrators by saying some were armed.

However, no weapons were visible as the crowd walked through the heart of Rafah trailed by children.

Witnesses described seeing children soaked in blood and men with their intestines hanging out.

The dead included 12-year-old Waleed Abo Kamir, Mahmoud Mansour, 13, and Mobark Hasbash, 15. Doctors said that four other bodies brought to the morgue and not immediately identified appeared to be teenagers.

The Israeli army has killed 33 Palestinians in Rafah over the past two days, some of the highest casualties of the present intifada. More than half of the dead are civilians and at least seven of them children.

"We were marching down the road shouting 'We need help' as a message to the world, and 'No to occupation'," said Hussam Mustafa, a civil engineer. "There was a missile and then people started running back and then there was another missile right into the crowd."

Salah Ahmed was also in the crowd. "First we heard machine gun fire and then there were three shells, perhaps four," he said.

"We were knocked to the ground. I saw people in pieces. Two of the missiles landed right among us."

The Palestinian foreign minister, Nabil Shaath, called the killings a war crime. "This is a terrorist massacre and a terrorist war crime," he told the Associated Press.

The US said it was "deeply troubled" by the killings and urged "maximum restraint" in Gaza.

Tony Blair told the Commons that the Israeli raid on Rafah was "unacceptable and wrong".

But Israel's defence minister, Shaul Mofaz, dismissed growing criticism from the EU, the UN and Britain over the mounting civilian casualties in Rafah and said the assault would continue because it is "a necessary and vital operation for the security of the state of Israel ... This operation is vital and will continue as long as needed. There is a war going on here."

Last night Israeli helicopters fired missiles into several parts of the Rafah camp as tanks and troops moved into the area. There was also fighting close to Rafah town. Witnesses reported several dead and injured.

More than 40 people were wounded in yesterday's demonstration and a frantic operation to get them to Rafah's rudimentary hospital began with ambulances, fire engines and cars ferrying them at high speeds with wailing relatives in pursuit.

"These are not bullet wounds, they are much worse," said Dr Ayad Rubi at Rafah hospital. "We were operating on five patients at once in two theatres. Missiles cause so many wounds, to the head, to the chest, all over. I'm sure there will be more deaths."

Israel offered to evacuate the worst casualties to its hospitals and 40 ambulances were dispatched to assist.

The demonstration came hours after Israeli soldiers in Tel al-Sultan, a part of the refugee camp under army control since Monday, ordered all males between the ages of 16 and 60 to assemble at various schools in the area for interrogation. Known fighters were ordered to carry white flags. A contingent of buses was on hand to carry away those who were to be arrested.

Tel al-Sultan has been cut off from the rest of the camp by the Israeli military, its residents placed under perpetual curfew and snipers posted on high buildings.

Yesterday's protesters sought to challenge the army by marching from Rafah town down Beach Road toward Tel al-Sultan.

The army said it tried to deter the demonstration by firing flares, followed by a missile from a helicopter at a patch of open ground. It then directed machine gun fire "towards a wall of an abandoned structure along the side of the road and then four tank shells were fired at this abandoned structure".

"It is possible that the casualties were a result of the tank fire on the abandoned structure," the army said in its statement. "At no point in this incident was intentional fire opened in the direction of civilians."

Palestinians say it happened differently.

"Where is the open ground they fired at?" asked Khalil Mashur. "Where is the abandoned structure?

"It's a massacre. They fired missiles into a crowd full of children. That is a massacre.

"The Israelis say they believe in protecting life and we Palestinians only believe in killing. But we are the ones dying."